Thursday, June 3, 2010

Effects of coffee on alertness may have been misunderstood.

We have long assumed that we understood the invigorating effect of caffeine. But based on a new study, it looks like habitual drinkers develop tolerance to the stimulating powers of coffee, just like they develop tolerance to dehydrating effects of caffeine. The real reason coffee addicts feel "woken up" by a cup of coffee is because they were feeling withdrawal symptoms (like all other addicts do!). Drinking coffee brings them back to normal, which of course feels like a major improvement from the distressed state they were in before.

So only first-time coffee drinkers get the real cognitive boost, while regular drinkers show improved performance simply by alleviating the addiction withdrawal. Very interesting perspective.

Here is a link to Science Daily article on this: Coffee consumption unrelated to alertness: Stimulating effects may be illusion, study finds.

Tuesday, June 1, 2010

Good union, bad union.

A lot of discussion has been centered around excessive union demands that end up bankrupting various governments. Some have even declared all unions as evil. I think there can be a line drawn; some unions can be a useful tool of social equilibrium, while others may have no economic or social justification at all. I think private unions can be necessary to ensure that the profits are more fairly shared between the owners and the labour, but for this system to work, some conditions have to be met. Below I list those conditions and show how they often do not apply to public unions.

  • Contract negotiation must happen with the employer. This ensures that unions will not be able to extort more than their labour is worth. At some point true business owner would prefer shutting his business down as an alternative to operating at a loss. Public unions, however, negotiate their contracts with other public workers in the government, while the true "business" owner - the taxpayer - is left out of the picture. This often allows public unions to negotiate conditions that could never be sustained in a profitable business.
  • Business interests must be somewhat aligned with labour interests. The alignment does not have to be absolute. But if small private business goes bankrupt, workers normally suffer too. For public unions this is generally not so - public money comes in no matter what.
  • Business must not be a monopoly. This is self-explanatory, I hope. The unwelcome effects of monopolies are well known in the Economic science. Healthy dose of competition ensures that labour  stays aware of its true market price. Public unions are often operated within a monopoly service, such as school system, and the costs are frequently hidden from both the taxpayers and the users of these services. The results, again, are a distortion of the market and salaries that would never be obtained in a competitive business.
 These three points are my case against many public unions, but not necessarily against private ones.

Bad outcome does not mean a bad decision has been made.

Bad outcome does not mean a bad decision has been made.
I saw this quote in an accounting textbook. Of all places. But I think it sums up pretty nicely what it means to live in a world that is ruled by probabilities. Too often I see people analyze various failed ventures trying to identify the mistakes. It's quite possible that no mistakes were made; maybe everything has already been done to maximize the chances of success but sometimes the odds just line up against you.

Sunday, May 30, 2010

This is what a market driven by speculation looks like.

Below is a 6 month chart of  Canadian dollar compared to DOW.











Notice that the two are nearly perfectly correlated.  Some correlation is expected there, after all American companies are a large component of Canadian exports, but it should be nothing like 100%!

This correlation is consistent with the big market participants choosing these two assets to play in, so that when they buy or sell they always allocate their capital in the same proportions. They also choose when to buy or sell not based not on fundamental economic events, but on the access to money - or maybe even based on a whim.

This means that the prices in the markets are driven entirely by the speculation, and lost their relationship to fundamentals. Unless you have close ties to the circle of traders who are driving the market behavior, you have no business staying invested in stocks. However, if you are in that circle, you can trade virtually risk free. That may explain, for example, why Goldman Sachs had zero days with trading losses last year.

Tuesday, May 25, 2010

Why GDP in a service economy cannot grow, or productivity paradox explained.

In Economics, Productivity Paradox (why introduction of computers resulted in no productivity increase) still has no widely accepted explanation. Naturally, I must post my own here. I think this longish essay will be worth the read.

First, imagine an economy where over 50% of people are employed in food production; most of others are creating tools and houses; and "service sector" is an expression that nobody has heard. If you think this has nothing in common with the economies of today's developed countries, you are absolutely right. Yet this 19th century economy is exactly what people had to work with when most of the traditional economic theory was founded. In this economy, it is easy to calculate things. If total amount of money is M and total product is P, then worker's salary is typically (P/M)*V, where V is how much product that particular worker is responsible for. If you then add up all the salaries in the country, you get back something that is directly related to the total amount of physical goods produced. This is the GDP, measured in dollars, and it captures the country's output very well. Let's call this exhibit Economy #1.

Now fast forward to the day when technology advanced to the point where all fertile land can be managed by 2% of the population; all necessary clothing  can be made by another 2%; all required tools and houses can be built by another 6%; what about the other 90% who have nothing to do?

That's when the service economy is born, where most work is done not because it's needed, but simply in order to justify getting your fair share of food and other stuff. Most jobs pay based on how long they take to complete and not on their "usefulness", and it is therefore possible for a completely useless service (such as real estate brokerage) to be priced higher than somewhat useful ones (like lawn mowing and hair cutting). Producers of real goods have no choice but to go along with the program because otherwise they would not be able to sell anything to anyone (and would get lynched by an angry mob, to boot). In this economy, most of the product is intangible; and the total physical product P is a negligibly small part of the economy. In fact, the only thing produced by this economy is the time that people spend servicing each other. If total population is Y and total revolving money supply is M, then the average salary in this economy is going to be simply M/Y - because it's the only way to distribute food and shelter evenly. Notice how drastically different that is from our Economy #1. Even though some people (*cough* lawyers) will be better than others at marketing their time, the average is always going to be M/Y, and if you measure the GDP traditionally, by adding people's salaries, then total GDP is now completely decoupled from the actual physical product, and depends only on the money supply. In this economy it is practically impossible for the real output to grow, because the only significant product is people's time, and that is a fairly inflexible thing. And while you can "improve" GDP by creating more people or making them work more hours, it is impossible to change the productivity - because it will always be proportional to M/Y, no matter what happens to the total amount of tangible goods! And since we measure productivity in money, we will always get the same number back.

Productivity paradox is explained trivially once you understand that. If you add computers to an office that employs 100 people and it now takes 33 people to do the same job, it does not triple the salary of the original 100 workers, because remember, they are not producing anything, they are just trying to sell their time to justify getting the appropriate amount of food and physical goods. If their jobs suddenly paid better, more and more people would apply for them and drive the salary back to average. So what must happen then is 77 workers have to be laid off and go on to become personal trainers, dog walkers and so forth. Measuring the productivity of the original 100 workers will give you exactly the same number before and after - because we measure it in money. The elusive productivity growth is actually represented by more services becoming available - but we have no tools to measure that.

You might ask, why is reported GDP changing, if productivity must remain constant?
Since money supply M is always changing, governments adjust productivity by inflation. However, they don't use change in M as their inflation number (and it's impossible to measure it anyway). Instead, a basket of goods is used to approximately measure the change in money supply, and of course it's a very crude proxy. So all changes in GDP that we are observing are actually just mismeasurement of inflation.



As a bonus, we can now explain another paradox. You may have heard that pumping money into economy increases GDP, but in traditional economic theory that shouldn't work. In Economy #1, so many people are producing food and tools because they are actually hard to produce in low-tech society, and there isn't enough for everyone. So pumping money into economy (i.e. giving people more money) instantly increases demand for food and tools, and that drives up inflation by the same amount as the money supply, so total GDP (adjusted by inflation) does not budge.

However, if you add money into economy #2, people have no incentive to spend it on food or cloth, since people are already eating more than they need, and have more clothes than they can wear. So instead they dump their new money into things like bigger houses, they bid up education and health services, they buy stocks. Many of those things will not be (fully) captured by the traditional basket-of-good inflation measures, and therefore the GDP number is going to swell up instead. But it's all just an illusion - simply a mismeasurement of inflation. And that is exactly what happened in the USA in 1995-2006 and it explains how it's possible for the standard of living do stagnate during a period of GDP "growth".

Sunday, May 23, 2010

How complete is BP's failure in the Gulf?

They didn't even use the oil booms right...

Thursday, March 18, 2010

So can we make it official that there is a LOT of bad science out there?

Something that I have been noticed many years ago when I tried looking at some papers on the social and medical studies is that very frequently they perform statistical analysis incorrectly, and draw conclusions unsupported by their own data.

Well I just found a great article which not only fully describes this problem, but gives a lot more additional insight to offer: Odds Are, Its Wrong.

Choice quote from the article:
In fact, if you believe what you read in the scientific literature, you shouldn’t believe what you read in the scientific literature.“There is increasing concern,” declared epidemiologist John Ioannidis in a highly cited 2005 paper in PLoS Medicine, “that in modern research, false findings may be the majority or even the vast majority of published research claims.”Ioannidis claimed to prove that more than half of published findings are false, but his analysis came under fire for statistical shortcomings of its own.
Now when I want to explain people why I don't believe the results of most recent medical studies, I will just give them this link!

Let it be noted, however, that statistical analysis is usually done much more rigorously and soundly in fields like Physics and Chemistry. But it is only achieved by vigilance of the reviewers and constant emphasis on that fact that evaluating the uncertainties in your research is much more important that the actual result. I remember that on almost every paper I worked on, 80% of the total research time was spent analyzing the probabilities of your results being wrong.